mortgage insurance. Assisted multifamily projects with HUD-
insured mortgages present a special set of problems.
HUD'S current capacity to manage its portfolio of insured
mortgages is limited. Shortcomings in information and systems,
limitations upon staff and contractor support, restrictions upon
available tools for effective loan administration, and a
complicated institutional culture all combine to Impede even the
most talented and motivated people at HUD from doing their jobs
as effective asset managers.
Figure 1 (on p. 4 of this testimony) presents the elements
of Institutional capacity that are required for HUD to manage its
139
muXtifamlly mortgage insurance effectively: (1) high quality
Infomation and inforaation syeteBtts, (2) capable staff, either
in-house or through contractors, (3) authority to act as a
prudent manager, and (4) an institutional culture that encourages
effective financial management. My research, conducted earlier
this yeaor, appllecl these criteria first to HUD's Special Workout
Assistance Team (SWAT) program and then to HUD's administration
of its entire portfolio of multifamily assisted and insured
properties .
The research concluded that, indeed, institutional capacity
is a serious problem for HUD in its adninistration of today's
multifamily portfolio. The success of the SWAT Team stands as a
striking contrast by virtually all of the measures in Figure 1,
Consider each of the foiu: elements in turn.
High quality ir^fforaation and Bystems } By contrast to the
SWAT Team, HUD multifamily asset managers/ loan servicers in the
field offices lack access to a central database with accurate and
timely information about the entire HUD portfolio. The department
also lacks good central information about staffing and caseloads
of asset managers/ loan servicers in each field office.
Capable s taff aqfl qontr^otor support; The SWAT Team selects
its staff from among volunteers, on the basis of relevant skills
and ability to work with people. A SWAT contractor trains SMAT
members In their tasks and in use of the new management
information system. By contrast, asset managers at HUD field
offices are of variable quality. Hiring freezes have created an
aging workforce.
SWAT field representatives each oversee a much lower
caseload than is found elsev^ere at HX7D. Each SWAT member may be
responsible for a portfolio of about ten projects. This coi^xures
to HUD portfolios that can range to over 100 projects per asset
manager at a large olty office such as Detroit, and down to
perhaps 35-40 at a field office such as Greensboro. The average
HUD caseloads are significantly greater than those of state
agencies In Nlohlgan or Pennsylvania, that have comparable
multifamily portfolios.
SWAT Teams are backed by contractors, including accounting,
appraisal, inspection and legal support. Both the BUD Office of
General Counsel and a section of the Department of Justice have
reorganized to provide strong legal support to SWAT matters and
enforcement actions. Finally, the SWAT effort is backed by
sufficient budgeted funds, at least for the current limited
caseload. This includes money for travel, training, contractors,
oonputers and information systems.
140
Figure 1
The Elements of Instituti onal Capacity to Manage
the FHA Multifamllv Mortgage Portfolio
X. Capacity to Know the Condition of the Portfolio
• Quality Information (relevant, accurate, timely)
• Information Systems
II. Staff Capacity
• Staff With Skills to Use Information Effectively
• Reasonable Worlcload to Permit staff Attention to
Individual Properties
• Flexibility to Deploy Staff to Meet Needs of
Portfolio Management
• Ability to Retain Needed contractor Support
III. Capacity to Act Effectively
• Legal Authority to Address Problems Effectively
• Ability to Make Decisions Promptly
• Authority to Manage Incentives of
Mortgagees/Owners /Managers (Without Interference
or Pressure to Forebear)
IV. Institutional Culture
• An Institutional Culture That Provides Clear
Guidance With Respect to the Tension Between Doing
Well and Doing Good
• Institutional Culture That Encourages Effective
Portfolio Memagement
141
Capacity to act effeotivelv ! The SWAT effort recognizes the
limitations of the design of the multifamily programs and uses
enhanced information and legal support to maximize the
application of the available tools. Perhaps most importantly, the
SWAT Team operates under a directive that does not discourage
assignment of a mortgage or foreclosure on a property in
appropriate cases. The SWAT structure is also designed to enhance
the ability of field staff to respond quickly. This contrasts
with the traditional HUD structure that requires a multilayer
review of requests within a field office and subsequent layered
reviews in Washington.
Institutional culture ; The SWAT Team has taken steps to
create a new institutional culture. The staff operates according
to a fixed protocol; «aaoao tfea propairty, screen it, assign it
for action, negotiate and enforce if necessary. This is a
profoundly different environment than is available to asset
managers in the more overworked HUD offices where the absence of
clear financial objectives, and of sufficient staff with
appropriate expertise in financial management, have led to an
institutional culture that does not reward active financial
management .
The SWAT effort demonstrates that HUD can deploy its
capacity effectively to deal with parts of the multifamily
portfolio. The problem, of course, is that the SWAT Team can only
deal with a few hundred properties, out of 15,000 properties with
mortgage Insurance that HUD must supervise. The department is now
working to supply added resources to the field offices as well. A
new procurement for millions of dollars of contractor support is
expected to give the department the oapaoity to obtain needed
financial reports, physical inspections and other information
about perhaps a thousand of the more troubled projects. Yet, even
these added resources do not suffice to deal with possibly (no
one knows) several thousand such properties that currently
require such attention.
II. HUD'S capacity to Manage the Resol ution of Today^s
Insured Pro-iecta That Receive Above-Market Rental
Assistance
To extricate ourselves from the troubled portfolio will
require even more capacity than is needed for today's supervision
alone. A reduction in the budgeted resources for above-market
levels of section 8 rental assistance would be likely to drive
many projects into default.
The recent Ernst 6 Young Kenneth teventhal study found that
after such a reduction in rent subsidies, only about one-fifth of
the properties could meet operating expenses, capital needs and
debt service on their current mortgages. Slightly over half of
142
the mortgages would need restructuring to keep the property
viable, and about a quarter could not neet capital expenses and
operating needs even if the mortgage were written down to zero.
SubsttUitial capacity will be needed to deal with the
decisions that must be made with respect to these thousands of
properties. Consider again the four elements of Institutional
capacity .
High quality in formation and systems : If HUD were required
to deal with each property individually, then the department
would need to assure access to careful appraisals and high-
quality determinations of the potential of each property to
generate income under various possible sceneirios.
Necessary information might include (1) appraisal of the
fair market value of the property, determined without regard to
current Section 8 project-based assistance, (2) projection of
rents that the property could charge if their level were
determined by the meurket rather than by government formula, (3)
estimates of the size of mortgage that could be supported by
market-level rents, if these are below current project -based
Section 8 rent levels, (4) analysis and inspection to ascertain
the extent that the property needs capital improvements to be
viable in the market without project-based Section 8 assistance,
and (S) analysis of the extent that the property would be viable
if Section 8 certificates or vouchers were available (first to
current tenants and, after a transition period, generally in the
market) .
Capable etaff and contractor euoaerti Demands upon staff
also would increase considerably. Depending i^pon the extent of
the reductions in rental assistance, the number of troubled
properties and the need to negotiate possible workouts could
increase significantly.
If required to deal with properties individually, HUD staff
and contractors would need to assess the quality of the appraisal
and the detennlnatlon of income potential of each property. HUD
staff would also need the capacity to make careful judgments
about the extent that additional federal resources, e.g. in the
form of capital grants, capital improvements or additional rental
assistance, possibly through vouchers or certificates to tenants,
would make the difference in the extent that each property would
be financially viable over the remaining life of its federally
insured mortgage.
Capacity to act effectively ! Issues of capacity here
include both the legal authority to respond promptly and
properly, and also the empowerment of professionals to make
timely decisions and obtain prompt resolution of outstanding
issues from the organizational hierarchy.
6
143
HUD field staff would need authority and budgeted resotirces
(1) to hire property managers and other oontraotore promptly,
e.g. to ascertain the condition and viability of the property,
(2) to enter into negotiations with current owners for a workout,
(3) to hire experienced negotiators with skills to supplement
those in house at HUD, (4) to require risk sharing in workouts to
create incentives of borrowers and mortgagees to act In a manner
that protects the government's financial interests, and (5) to
commit additional resources that may be needed to protect the
property or to facilitate a workout, e.g. to provide a "soft"
second mortgage as a way of protecting the owner against adverse
tax consequences.
tf a property goes into default, BUD must have the authority
to act quickly to protect both the condition of the property and
the interests of tenants. HUD must have authority to deal both
with the mortgage, preferably without a formal foreclosure, and
possibly with the disposition of the property itself.
Institutional Culture : If the Congress decides to permit
expiration or significant reduction in the levels of some or all
Section 8 project-based assistance, then the tension between
doing well and doing good could inject itself into a large number
of decisions. The Congress could reserve a number of these
decisions for itself. If not, then HUD may need to decide
whether, or on what conditions, to let property owners prepay
their HUD-lnsured mortgages, whether to protect certain kinds of
tenants (e.g. the elderly? the disabled? large families?) from
the need to move from their current assisted project, and how to
allocate scarce resources for property Improvements, tenant
counseling and other important purposes.
one important statutory issue will involve the intended
outcome of portfolio restructuring. HUD's institutional capacity
was weakened from the inception of the program of providing
rental assistance to properties that had been financed with HDD-
insured mortgages. The result of the combination of mortgage
Insurance and rental assistance was to confuse thoroughly the
perceived roles of the responsible HUD staff. HDD asset managers
came to see their role as one of helping tenants and avoiding
Insurance claims by finding additional sources of subsidy if
necessary. This made it virtually impossible for them to Impose
the finimcial discipline upon owners and mortgagees that an
insurer such as HUD must have if it is to protect taixpayers from
the prospect of intolerable losses.
It will be important to avoid replicating this confusion of
roles in the restructured properties. HUD's capacity to oversee
properties even after restructuring could be sorely tested if
these properties once again involve an uncontrolled combination
of federal rental assistance and federal mortgage insurance.
144
In summary, if the process is not well designed beforehand,
the expiration of current levels of Section 8 rental assistance
on properties with HXTD- insured mortgages has the potential to
impose virtually intolerable demands upon HUD's already strained
institutional capacity. In particular, the Congress will need to
structure the process of portfolio resolution so that HUD cem
utilize private partners whose incentives are so well aligned
with those of the government that supervisory burdens upon HUD do
not become unsustainable.
III. Lessons About Capacity and Incentives From the
Experience of the Resolution Tr ust Corporation fRTC)
The experience of the federal government in dealing with the
consequences of the savings and loan debacle provides some
valuable lessons about the tradeoff between the government's
capacity and the incentives of private parties. The lessons from
that experience sure relevant to the administration of federal
credit programs generally and to the HUD multifanily insurance
programs in particular.
Perhaps the most important leeson of the government's
experience with the thrift debacle is that federal budget
constraints can reinforce a general reluctance to take active
steps to recognize program losses. The costs of such inaction to
taxpayers can be very expensive, despite the efforts of program
officials to work around legal and budget impediments through use
of complicated institutional structures.
Another important lesson from this experience is that sound
design of a program or process can greatly reduce the
institutional demands upon a federal agency. When the RTC
attempted to supervise asset managers, this imposed great demands
upon the government's institutional capacity. Moreover,
government officials often were tempted to substitute their own
judgments for those of the private asset managers.
By contrast, when the RTC developed securitization or joint-
venture approaches, these could be structured to reduce denemds
upon the government's own resources. The RTC entered into
contracts with private partners that helped create a vln'-vin
outcome: the private partners could make money, but only when
they acted to promote the government's interests as well; the
RTC's securitization and joint-venture structures were able to
align incentives between the private partners and the government,
compared to the need to oversee and control individual asset
managers. The contracts also helped to protect the private
partners from long deliberations of government officials who
might have been tempted to second-guess any of a myriad of
decisions.
145
Th« RTC •xparimcntad with a nunber of approaches to asset
disposition. Considar the difference between (1) plaoing aseets
into the hands of private contractors under a "Standard Asset
Management and Disposition Agreement" ("SAMOA"), and (2) use of
j oint -venture partnerships .
Contractors: The RTC used over 100 so-called "SAMOA"
contractors , and some 2 , 000 suboontraotors , under three year
agreements to manage and dispose of some $40 billion of assets
through individual asset sales, workouts and settlements. These
contractors and subcontractors received fees both for managing
emd disposing of properties. Their incentives did not necessarily
coincide with the mission of the RTC.
RTC officials found that it was difficult to structure
sufficiently strong and clear incentives for each of the private
contractors. Fear of possible financial abuses meant that the RTC
could not delegate asset management and disposition decisions
freely to contractors. Supervision of SAMOA contractors and
approval and supervision of their activities imposed significant
burdens upon RTC in-house staff.
Joint 'Venture partnerships: The RTC developed joint -venture
partnerships as a larger-scale way to deal with many of the more
troubled assets, including multifzuiily and commercial properties
and mortgages. The joint venture pzirtnerships provided for risk-
sharing Jsetween the government and the private party in the form
of eq[uity sharing. The winning qualified bidder became the
general partner and bolder of a epeolfled ec(uity Interest in the
partnership .
The winning bidder was compensated primarily through its
share of returns from the sale of assets or income from assets.
The RTC was the limited partner with the right to receive a
stated percentage of cash flows. The RTC developed contract terms
to prohibit self-dealing and exceptional tax. benefits and that
helped to align the Interests of the private joint venture
partner with those of the government.
The joint venture partnership thus assured the private
partner a significant share of net cash flows, but removed other
interests of the private partner that could complicate the
incentive structure. The RTC joint-venture partnerships were
successful financially for the RTC, were easy to monitor and
Imposed minimal burdens upon the institutional capacity of the
agency .
For example, in two particular joint -venture partnerships
)cnown as the "AMOA" partnerships, the RTC employed three people
paurt-time, amounting to about one full-time equivalent (PTE)
person on staff, to oversee some $3-4 billion of assets. The
proceeds of the transactions were used to hire one aocoxinting
BOSTON PUBLIC LIBRARY
3 9999 05984 321 7
firm per partnership to monitor that the private paortners lived
up to the tents of their contractual agreements with the
government .
The RTC, althouc^ it was in a different business than HUD is
today, was required to address the same issues of great demands
upon a limited institutional capacity. One significant lesson
from that experience is that sound program design can greatly
reduce the demands for supervisory resources. Horeover, the
evolution of the RTC approaches reveals a willingness to explore
alternatives and leeurn lessons from each transaction.
For HUD, such esqperimentation cam help to devise the
partnership arrangements that can best serve the department's
need for enhanced institutional capacity to manage its
multifamily portfolio. Sound design also will serve the interests
of the many communities that will need to cope with the impact of
impending reductions in federal rental assistance levels for
hundreds of thousands of people and thousands of assisted
properties across the country.
10
O
ISBN 0-16-055920-0
9 780160"559204
90000